Factory overhead is an often misunderstood, yet extremely important concept in the manufacturing industry. It is a term used to refer to all of the indirect costs that go into a company’s production process. It is often overlooked, but it can have a tremendous effect on a company’s profitability and competitiveness in the marketplace. Therefore, it is important for business owners and operators to understand what factory overhead includes and how to manage it effectively. In this blog post, we will take an in-depth look at what factory overhead includes, and how it affects a company’s bottom line. We will also explore the various strategies that companies can use to control and reduce their factory overhead. By the end of this post, you should have a better understanding of factory overhead and how to manage it successfully.
What is factory overhead?
The expenses incurred by a company when producing a good, excluding the costs of direct labor and materials, are referred to as factory overhead. Also called manufacturing overhead, it comprises three major parts:
What does factory overhead include?
Some of the most often encountered factory overhead costs are:
Factory rent
A company must pay rent in order to use various business facilities, such as office and factory space. Based on a written agreement and until a specific date, it is paid by the business management to the property owners. Rent expenses are typically paid on a monthly, quarterly, or annual basis and constitute a sizable portion of an organization’s overhead. If a business chooses to purchase the factory, any depreciation losses are included in the factory overhead calculations.
An organization, for instance, pays $3,000 per month for office space and $4,500 per month to rent its factory floor. Their overhead includes all of their rent-related costs, but only the $4,500 monthly payment for their factory is regarded as factory overhead.
Factory utilities
A factory’s overhead also includes the price of the necessary utilities to run the business, such as gas, water, electricity, the internet, and others. By negotiating with several suppliers or committing to a long-term agreement, they may occasionally be decreased.
As an illustration, a company pays $150 for sewage, $860 for water, $5,000 for electricity, and $500 for internet service each month at their factory. Their monthly average factory overhead costs for utilities are $6,510.
Factory machinery and vehicle maintenance
In a factory, every piece of machinery needs to undergo routine maintenance and inspection. Additionally, they must be fixed whenever they stop working properly to maintain regular production parameters. The total cost of maintaining factory equipment to run efficiently is referred to as factory overhead.
An organization estimated its total business expenses for the year 2020 and found that it spent $13,000 on routine equipment and vehicle upkeep and $27,000 on fixing malfunctioning equipment and vehicles. Their annual factory overhead, which includes the cost of maintaining their machinery, is $40,000.
Factory insurance costs
Although all insurance costs are included in a company’s overhead, only the insurance costs specifically related to the factory are included. These expenses could involve premiums for insurance covering the factory structure, various pieces of machinery, worker health and safety, vehicles, and any other insured factory property.
An organization pays $23,000 annually to insure their factory, $33,000 for equipment insurance, and $20,000 for workers’ compensation insurance. The total annual cost of factory insurance, which is included in factory overhead, is $76,000.
Factory supervisor and maintenance staff
Supervisors and inspectors are frequently needed in factories to ensure that all production procedures are followed and that all produced goods meet certain standards. Employees must also ensure that all used equipment is operating properly and producing the desired results by performing routine maintenance tasks. The cost for these workers is included in the organization’s factory overhead because they are employed in a factory but their work is not directly related to a single product.
Example: A company pays each of its three factory supervisors $50,000 a year to ensure that every worker carries out their duties in accordance with established standards. Additionally, it pays a $45,000 annual salary to an inspector who checks the final products for manufacturing flaws and $38,000 annual salaries to four maintenance workers who keep all of the equipment operating as efficiently. Their total staff-related factory overhead cost is $347,000.
Factory supplies
In addition to the materials used directly to make a product, factories also need other supplies to maintain normal production. Typically, they are things that workers need or that different types of machinery need in order to operate at peak performance levels.
An organization spends $2,300 annually on uniforms and helmets for factory workers, $8,500 annually on lubricant to keep machines in good working order and prevent wear, $2,000 annually on cleaning supplies and equipment, and an additional $1,000 annually on other necessary consumables that aren’t directly related to the manufacturing process. Their factory overhead costs related to factory supplies are $13,800.
Factory management
Since they are essential to the factory’s efficiency but are not directly involved in producing goods, the workers who oversee the facility and regularly make decisions regarding various aspects of daily operations are also included in the costs of the factory.
A factory manager is employed by a company at a cost of $78,000 annually. There are three distinct production floors in the factory, each with a floor manager. The total yearly costs for each floor manager are $50,000. Consequently, $228,000 is the total factory overhead cost related to management.
Factory Overhead Definition – What is factory overhead
FAQ
What is considered factory overhead?
Depreciation of machinery and manufacturing facilities are included in factory overhead in more detail. Rent, property taxes, insurance, and utilities. The cost of employing managers, workers in maintenance and quality control, as well as any other personnel working on-site but not producing signs
Which items are added in factory overhead?
- Factory expenses (e.g., rent, rates, insurance, water, heat, and electricity)
- Factory maintenance (e.g., cleaning, servicing, repairs, oiling, and greasing)
- Depreciation of factory plant and machinery and buildings.
Which of the following costs would be included as part of factory overhead?
All costs on the income statement other than direct labor, direct materials, and direct expenses are referred to as overhead expenses. Accounting fees, advertising, insurance, interest, legal fees, labor costs, rent, repairs, supplies, taxes, phone bills, travel expenses, and utilities are examples of overhead costs.
